Banks Urged to Improve Credit Risk Management

The Malta Financial Services Authority (MFSA) has issued a circular emphasizing the importance of effective credit risk management practices among banks operating in Malta. The regulator highlighted several areas where banks can improve their processes to mitigate potential risks and ensure compliance with regulatory expectations.

Key Indicators Need Clear Documentation

• The MFSA stressed the need for banks to clearly document key indicators that are subject to monthly review, separating them from those that are not.
• This will enable a more efficient identification of deterioration and reduce manual intervention.
• Banks with the necessary IT capabilities were also encouraged to introduce an automated alert system to expedite the process.

Unlikely-to-Pay Triggers

• The regulator emphasized the importance of performing Unlikely-to-Pay (UTP) assessments in conjunction with counting days past due.
• Credit institutions should include a list of UTP triggers within their credit policies, which should include:
  • Pre-defined automatic events
  • Manual events in place
• Banks were cautioned against using unclear or ambiguous triggers that may lead to individual discretion. Instead, they should set clear and quantifiable criteria for identifying customer deterioration.
• The MFSA also recommended including automated alerts at the obligor level with clear escalation procedures aligned with early warning policies.

Maintenance of Credit Files

• The regulator inspected credit files and identified a need for more robust and coherent corporate client documentation, including:
  • Up-to-date audited accounts
  • Periodical management accounts
  • Information on privileged creditors
  • Formal documentation of clients’ meetings
  • Site visits
• Credit files should also include forward-looking information, such as updated business plans and cashflow forecasts.

ICAAP Considerations

• The MFSA encouraged banks to consider how to document their assessment of the issues highlighted in the circular within their Internal Capital Adequacy Assessment Process (ICAAP).
• This may involve:
  • Assessing data quality issues
  • Updating policies on Early Warning Indicators and UTP triggers
  • Identifying and recording forbearance
  • Integrating unlikely-to-pay triggers into credit risk reviews

Concluding Remarks

• The MFSA expects boards of banks in Malta to benchmark themselves against the findings and recommendations set out in the publication and take action where necessary.
• The regulator will engage with and assess the approach taken by boards as part of its supervisory assessments in 2022, which will be incorporated into SREP letters and ongoing supervisory dialogues.
• By implementing these improvements, banks can enhance their credit risk management practices, reduce potential risks, and ensure compliance with regulatory expectations.